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How do forex brokers make money?
This guide explains the different ways forex platforms make money. We explore the two main methods they use to generate profits and look at their other strategies. Read on to learn how forex brokers make money and discover if they ever lose it.
What do forex brokers do to make money?Copy link to section
Forex brokers offer a service that allows users to buy and sell currency pairs. They do not offer this service for free and have several charges or fees they use to earn money. The type of business model a broker uses will determine how they make money. Brokers make money mainly through fees, which typically include spreads and commissions.
What are the types of forex brokers and how do they make money?Copy link to section
There are two main types of forex brokers: dealing desk brokers (market makers) and non-dealing desk brokers. Both allow you to trade the currency market but use different approaches. Dealing desk brokers effectively act as the market and non-dealing desk brokers act as a middleman between you and the market.
Here’s an explanation of each type of broker and how they make money.
Dealing desk forex brokersCopy link to section
Dealing desk forex brokers are also known as market makers and their main role is to act as a counterparty to your trades. This means they have two key roles; they provide you with liquidity and a market. Simply put, a dealing desk forex broker will take the other side of your trade; when you buy, they will sell and vice versa.
Due to how dealing desk brokers work, there is a conflict of interest as they can control prices, decide how big of a position you can trade, and even refuse your trades.
How do dealing desk forex brokers make money?Copy link to section
A dealing desk forex broker makes money in two main ways. They take the opposing side to your trades and earn from spreads. By taking the other side of your trade, a dealing desk broker makes money when you lose money and loses money when you make money.
They usually offer fixed spreads because they control the bid/ask price for each FX pair. Spread is the difference between the buy and sell price and with dealing desk, brokers are usually on the higher side.
No dealing desk forex brokersCopy link to section
No dealing desk forex brokers act as a middleman and connect traders to third party liquidity providers to make forex trades. Several types of brokers fall under the no-dealing desk model and include NDD brokers, STP brokers (straight through processing), and ECN brokers (electronic communication network). They all work similarly but have a few slight differences.
- STP brokers. Straight through processing forex brokers connect your order to liquidity providers from the forex interbank market. Your order is filled when it is matched with another order.
- ECN brokers. Electronic communication network brokers direct your orders to various liquidity pools, including banks, funds, institutions, and other traders. Your order is filled when it is matched with another order.
- STP and ECN brokers. Some forex brokers use a combination of both models and direct trades to both the interbank market and external liquidity pools.
How do no-dealing desk forex brokers make money?Copy link to section
No dealing desk forex brokers make money through spreads, commissions, or a combination of both. When your order is routed to external liquidy pools, an NDD broker will earn money from fluctuating bid/ask spreads. Although, spreads are extremely tight compared to dealing desk brokers.
Due to small spreads, no-dealing desk brokers will usually charge a commission for each transaction you make. A typical commission charge is $3.50 RT per lot traded. This means on a standard lot for any currency pair, the broker will make $3.50 when you open your trade and $3.50 when you close it, for a total of $7. NDD brokers may use additional features to earn money, which we’ve explained in the sections below.
What are the main ways forex brokers make money?Copy link to section
The main sources of income for forex brokers are fees. This includes spreads and commissions. Some charge both, while others charge one or the other. Below is an explanation of each.
SpreadCopy link to section
The bid/ask spread is the difference between the buy and sell price of any currency pair. Spreads can be either fixed or variable. Fixed spreads are usually higher than using variable spreads. One benefit of using a fixed spread broker is that you will always know what you’re paying. It’s also likely that you will pay no commission. Low spread forex brokers generally use variable spreads, but you will probably have to pay a commission each time you trade.
CommissionCopy link to section
Some brokers make money by charging a commission to traders each time they open and close orders. ECN and STP forex brokers charge fees to make money from traders paying variable spreads, which are extremely low.
Commissions are quoted as round-turn (RT), meaning you’ll pay a fee for opening and closing your trade. Some low commission brokers charge considerably less than the average, while some let you trade different lot sizes and adjust the commission according to your trade size.
What other methods do forex brokers use to make money?Copy link to section
In addition to spreads and commissions, forex platforms can make money through other services and fees. Below is a short breakdown of other ways forex brokers make money.
Payment fees.Copy link to section
Some forex trading platforms charge for depositing and withdrawing money. Usually, these charges are applied to specific payment methods that are not used as frequently as others. Most platforms will let you deposit and withdraw money for free if you use a bank card or transfer; however third party apps such as Payoneer may come with a fee.
Inactivity feeCopy link to section
Most brokers have a clause in their terms that states you’ll be charged money if you don’t use your account for a certain amount of time. Usually, this is a 12-month period but can be shorter depending on the platform. You can easily avoid an inactivity fee by logging into your account regularly and making a trade or withdrawing your funds.
SubscriptionsCopy link to section
This can include trading signals, expert market analysis, forex news, and data feeds. Most forex brokers offer these services for free, although some platforms charge for premium subscription services such as advanced charting packages.
Licensing agreementsCopy link to section
Some forex brokers have proprietary trading software that they licence to other brokers or companies. This usually involves letting another brokerage firm customise a trading platform and offer it to their users. Licensing agreements do not impact individual traders.
Do forex brokers lose money?Copy link to section
They can, but it depends on the type of broker. Brokers can only lose money if they trade against you as a market maker. Market makers are typically banks or hedge funds, but some brokers operate this way. A market maker broker acts as a counterparty to their clients.
Every time you take a trade, the broker will take the opposite side of it. The broker has full control over prices and spreads. However, if you close your trade in profit, the broker will take a loss. Market maker forex brokers can lose money, but as the rate of success among retail traders is so low, the broker will generally profit over the long term.
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